The 6707A Penalty With a Nod to the Superseding Return Concept

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I am a fan of the hardworking Lew Taishoff and his blog which provides timely updates on Tax Court matters. This week he posted a strong discussion of Yari v Commissioner. The case is a regular TC case of first impression that considered the proper way to calculate a penalty for failing to disclose a listed transaction under Section 6707A. 6707A imposes a penalty on “[a]ny person who fails to include on any return or statement any information with respect to a reportable transaction which is required under section 6011 to be included with such return or statement.” Prior to 2010 the penalty for failing to disclose a listed transaction was a flat fee–$100,000 for individuals. In 2010, facing a backlash that the penalty was too harsh, Congress retroactively amended 6707A, with the penalty set to “75 percent of the decrease in tax shown on the return as a result of such transaction (or which would have resulted from such transaction if such transaction were respected for Federal [income] tax purposes).” Sec. 6707A(b)(1) (emphasis added). For individuals, amended 6707A also prescribed minimum and maximum penalties of $5,000 and $100,000, respectively.

The issue in Yari was how to calculate the penalty when the taxpayer amended the return that eliminated the taxpayer’s income tax liability. If the penalty amount is derived from the original return, then the taxpayer in Yari was subject to the maximum $100,000 penalty. Using the amended return and the decrease in tax shown on that return, the taxpayer would be subject to the minimum penalty of $5,000.

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The Dispute Under 6707A

Mr. Taishoff sets the case up well. The taxpayer’s problem in 2004 stems from as he says “the old story of putting stock from a Sub S in a Roth, having an operating entity (here an LLC) pay the Sub S for “management fees”, and funneling the deductible fees into the nontaxable Roth. See Notice 2004-8, 2004-1 C.B. 333, for more about this nefarious scheme.”

During the course of the audit the taxpayer amended his 2004 return a first time and then again during deficiency proceedings. In the second amended return, the taxpayer claimed a NOL carryback of over $2.8 million, resulting in negative taxable income. The taxpayer and the IRS entered into a closing agreement in 2011 relating to 2004 and other years resulting in a stipulated decision in Tax Court.

Because 6707A is an assessable penalty the opinion walks through how CDP gives the Tax Court jurisdiction to consider the proper way to apply the 2010 changes to 6707A. For those who are interested in statutory interpretation, the case discusses what is and is not legislative history (sorry Blue Book fans) and some of the difficulties courts face in figuring out what Congress had in mind when enacting legislation.

The court concludes that the plain language of the statute supports the IRS’s interpretation.

We think the statute is clear and unambiguous: The penalty is calculated with reference to the “tax shown on the return”. Sec. 6707A(b). When we look to the penalty provision as a whole, it is clear that Congress has penalized the failure to disclose participation in a listed or otherwise reportable transaction on the return or other information statement giving rise to the disclosure obligation. If the taxpayer fails to report the transaction on that return or information statement, then the penalty is based on the tax shown on that return or information statement, not some other, later filed return or some hypothetical tax. Congress did not say that the penalty should be calculated by reference to tax shown on a return; it did not say to calculate the penalty using the tax required to be shown; and it did not say to calculate the penalty using the decrease in tax resulting from participation in the transaction. Congress very clearly linked the penalty to the tax shown on a particular return–the return giving rise to the reporting obligation. Absent a“‘clearly expressed legislative intent to the contrary’”, we will regard the clear and unambiguous language of the statute as conclusive (notes omitted)

In reaching its conclusion, the court noted how in other penalty provisions (such as 6651(a)(2), the failure to pay penalty) the Code allows for a reduction in the penalty if the correct tax liability is lower than that on the original return. Section 6651(c)(2) provides that if the amount required to be shown as tax on a return is in fact less than that on the return, to compute the penalty you use the lower correct tax rather than what you originally reported as tax. From that, Yari concludes that Congress knew how to get to the result that the taxpayers wanted here but “that it did not do so in section 6707A tends to bolster our holding that the penalty applies to the amount shown on petitioner’s first filed return.”

Superseding Returns

To that last point the court dropped footnote 8, stating that the taxpayer filed its amended returns after the due date for the original return and that it expressed “no opinion as to the result had he filed his first amended return before that date.” The note cited the Goldstone Tax Court case from 1975 where that court noted that amended returns have been rejected in certain circumstances but that “courts had upheld the validity of amended returns in other circumstances, such as where the amended returns were filed before the filing deadline for the subject tax year.”We have not spoken much about amended returns, but note 8 in Yari reminds me of a point in the Saltzman Book discussion of tax returns considering when a taxpayer submits a subsequent return prior to the due date of the original return. In a number of administrative announcements IRS has referred to that submission as a superseding return, which the IRS treats in effect as the original return taking the place of any other prior return and accompanying schedules and disclosure statements. It has done so even when the taxpayer submits an extension request and files an original return on a timely basis and then submits a new return prior to the extended due date. The Tax Adviser in an article from last year has a brief practical discussion of the point and some of the cases and administrative announcements considering the issue.

While Yari does not reach the issue, I doubt that the IRS would have disagreed with the taxpayer’s view if its subsequent return was filed before the due date and in effect was not an amended return but just a superseding original return. That the taxpayer filed the later amended returns well after the original return’s due date contributed to the court’s holding that the amended return had no significance for the penalty computation, a result that is consistent with tax procedure norms.

Leslie Book About Leslie Book

Professor Book is a Professor of Law at the Villanova University Charles Widger School of Law.

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